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$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$ $$$ $$$ $$$ The Feeling's Mutual $$$ $$$ $$$ $$$$$$$$$$$$$$$$$$$$$$$$$$$$$$ By Interpretive Software -------------------- Product Description: -------------------- "The Feeling's Mutual" offers a solid introduction to the world of mutual funds for the novice investor. With the use of detailed input screens and helpful examples, "The Feeling's Mutual" leads the user through the paces of thoughtfully defining financial objectives and then choosing a mutual fund that is right for them. The program achieves this by dividing the process into two parts: projection of the user's investment needs, goals and esti- mated results and a comparison of the many mutual funds available. A wealth of information on over 500 funds of the largest 25 mutual fund families is incorporated into the program, using such data as the fund objective, his- torical returns, size, minimum initial investment, load, expenses and yield for the most recent year. Program perks worth noting are the easy to use interface and the availability of help screens throughout the program. A "Quick Start" guide at the beginning gives the user a taste of what can be accomplished with the program, and the appendices in the manual provide valuable information on mutual funds in general and suggest possible invest- ment strategies using mutual funds. Reference guides for use with MS-DOS and Macintosh machines are also provided. Copyright 1992 Interpretive Software Inc. ----------------- Table of Contents ----------------- Introduction 1 Quick start tour of the software 3 Understanding Your Investment Objectives 6 Why are you saving? 6 Using the projections software 7 College savings example 7 Retirement example 11 Inflation issues / Saving your assumptions 15 Comparing Mutual Funds 17 Using the comparison software 18 Individual Funds 18 Fund Families 23 Appendix A: Mutual Fund Basics 26 Definitions (stocks, bonds, NAV, return, yield, load, expenses 26 Different fund investment objectives for different needs 31 The value of "diversification" 33 Fund families 34 What you'll find in a fund's "prospectus" 35 How to read the mutual funds section of the newspaper 37 Appendix B: Designing an Investment Strategy 39 Investment Horizon and Attitude Toward Risk 39 Matching your investment objectives with a mutual fund 40 How should you structure your investment portfolio? 42 When should you invest? 43 Tax issues 46 Appendix C: MS-DOS Reference Guide 47 Appendix D: Registration Information 49 Limited Liability ----------------- As is the case with all writings about investments, we need to release our- selves from any liability. Although we believe all information contained in the software and manual to be correct, we do not guarantee its validity. We offer no investment advice of any kind and are not liable for any losses (or gains) you may incur. Always read the fund's prospectus carefully before investing. By downloading, copying or using this software, you release us from any liability. In no event, will Interpretive Software, Inc. or the authors of this program and manual be liable for direct, indirect, special, incidental, or consequential damages resulting from any defect in the software or its documentation, even if advised of the possibility of such damages. In par- ticular, the authors shall have no liability for any programs or data stored in or used with the computer products, including the cost of recovering such programs or data. This software is sold, "as is," and you, the purchaser, are assuming the entire risk as to its quality and performance. The warranty and remedies set forth above are exclusive and in lieu of all other, oral or written, express or implied. Copyright 1992 Interpretive Software Inc. - 1 - Introduction ------------ When were you first confronted with mutual funds? a) My CDs had matured and I didn't want to reinvest at 4.0% return but there were no other alternatives at the bank. A friend of mine said I might want to look into mutual funds. b) My retirement plan at work requires me to invest in one of these funds and I had no idea where to begin. c) My stock broker (financial planner, insurance agent, etc.) suggested that I invest in a mutual fund for my long term savings needs. d) I was at a party when someone started talking about Magellan. Frankly, I didn't understand why a 16th century explorer was investing in stocks and bonds. But he was getting a 30% return on his investment! Perhaps, I thought, I should explore this further... If you were like many people, "all of the above" would have been a reason- able answer. This software and manual is for those people and perhaps you too. Mutual funds (and investing in stocks and bonds) is a rather compli- cated subject. Our purpose in writing this software and manual is to help you make an informed investment decision. This product will help you deter- mine your investment needs, understand your investment alternatives and finally, choose an appropriate mutual fund. The software basically provides you with two tools to help you achieve these goals. The "Projections" menu options help you better understand your investment needs, goals and estimated results. The "Comparison" menu options compare the many different mutual funds and mutual fund families available today. The manual is divided into three sections plus an appendix. Part 1 provides a quick start introduction to the software for those of you who can't wait. Part 2 focuses on your saving objectives. Here you'll learn how to estimate the amount you'll need (or have) for retirement or some other savings goal. Part 3 discusses how to go about choosing an appropriate mutual fund and mutual fund family. Appendix A contains supplemental information on mutual funds for the novice investor. Appendix B provides information on possible investment strategies using mutual funds. Appendices C and D contain machine specific instructions for MS-DOS and Apple Macintosh systems. Appendix E contains registration and product support information. - 2 - We were fortunate to have received a great deal of advice and feedback from a number of people who either helped us test the early versions of the product, edit the manual or provide marketing guidance. We'd especially like to thank Mary Deighan, Jim Fiordalisi, Payton James, Karen James, William Luers, Ken Ott, Donald Simroth, Ken Smith and the Shareware Marketing System. We hope this manual and software answers some of the questions you've had about mutual funds and also helps you formulate some new ones! Good luck with your investments. Stu James and Mike Deighan, 1992 - 3 - ----------- QUICK START ----------- The purpose of this guide is to quickly get you up and running through use of an example investment decision. To use the software on an IBM compatible insert the disk in drive A: and type TFM. On a Apple Macintosh, double click on the TFM icon. On either machine, performance can be greatly improved by copying the programs to a hard disk. Example: You'd like to start saving money for the down-payment on a house in 5 years. You estimate that you'll need $15,000 and you'd like to invest your money in a fairly safe mutual fund. What are your options? First, let's estimate how much you'll need to put aside each year, assuming a return of 6% (a CD in a bank). Choose the "Projection - Savings Projection" menu option and enter the following values: ----------------------------------------------------------------------------- Starting balance 0 Nothing saved yet Annual Investment Leave blank To be calculated Rate of return 6.0 6% on CD in bank Number of periods 5 5 years Ending balance 15000 Your savings goal Investment period Annual Annual basis ----------------------------------------------------------------------------- Select <Recalc>. The estimated amount you'll need to put aside each year is $2,510. Select <Cancel> to return to the menus (and discard changes). Now let's generate some alternative mutual fund investments. Along with the CD, you'd also consider investing in a bond fund or perhaps even an income fund, but you're concerned about putting your savings at risk. Let's look one of those categories and weed out any funds which haven't been around for 5 years, have a historical return under 6% or a load. Choose the "Compare - Individual Funds" menu item. Fill out the screen as shown on the following page. - 4 - Menu Option: Compare - Individual Funds ----------------------------------------------------------------------------- +---------------------------Fund Selection---------------------------+ | +-Selection Criteria---------------------------------------------+ | | | Show If | | | | > = < Value N/A? | | | | 1 Year Return (∙) ( ) ( ) [ ] [X] | | | | 3 Year Avg. Return (∙) ( ) ( ) [ ] [X] | | | | 5 Year Avg. Return (∙) ( ) ( ) [ 10.0%] [ ] | | | | 10 Year Avg. Return (∙) ( ) ( ) [ ] [X] | | | | Yield (∙) ( ) ( ) [ ] [X] | | | | Load (%) ( ) (∙) ( ) [ 0.0%] [X] | | | | Expenses (%) ( ) ( ) (∙) [ ] [X] | | | | Min. Investment ( ) ( ) (∙) [ ] [X] | | | +----------------------------------------------------------------+ | | +-Fund Objectives-------+ +-Fund Families--------+ | | | [ ] Growth | | AIM | <Report> | | | [X] Income | | Alliance | | | | [ ] International | | Amer Capital | | | | [ ] Specialty | | American | < Sort > | | | [ ] Government Bonds | | Dean-Witter | | | | [ ] Corporate Bonds | | Dreyfus | | | | [ ] Municipal Bonds | | Fidelity | <Cancel> | | +-----------------------+ +---------------------- | +--------------------------------------------------------------------+ ----------------------------------------------------------------------------- Now select <Report>. You should get a list of alternative income funds. Highlight one of the funds and choose <Detail>. This will show you more information about the fund similar to what is shown below: Menu Option: Compare - Individual Funds - Report - Detail ----------------------------------------------------------------------------- +-----------------Fund Detail: Financial Industrial Income-----------------+ | +----------------Financial Industrial Income (1991)--------------------+ | | | Family Financial | | | | Phone (800) 525-8085 | | | | Fund Objective Income (Equity/Income) | | | | Size (Millions) $1,597 All Funds | | | | Min. Investment $250 Return Percentile | | | | Load 0.00% Yield 2.6% 58 | | | | Expenses 0.94% 1 Year Return 46.3% 13 | | | | Cash Holdings 8.0% 3 Year Avg. 24.9% 10 | | | | Stock Holdings 74.0% 5 Year Avg. 18.7% 8 | | | | Bond Holdings 18.0% 10 Year Avg. 20.1% 4 | | | | | | | | Note: | | | | [ ] | | | | [ ] | | | +----------------------------------------------------------------------+ | | | | < Save > <Cancel> | | | +--------------------------------------------------------------------------+ ----------------------------------------------------------------------------- - 5 - Select <Cancel> to bring you back to the fund selection screen. Now select <Project> and enter the following values: ----------------------------------------------------------------------------- Starting balance 0 Nothing saved yet Annual Investment 2510 Amount you'll save / yr Rate of return 18.7 Based on fund Number of periods 5 5 years Ending balance Leave blank To be calculated Investment period Annual Annual basis ----------------------------------------------------------------------------- When you select <Recalc> the ending balance shows $21,611. This projection illustrates what you would have saved by today had you invested $2,510 each year and had an average return of 18.7% on your investment (average 5 year return for the selected fund). The difference between $21,611 and $15,000 is due to the higher return on this investment. However, you're also taking on more risk than with an investment in CDs. You may want to find one or two funds in each category and request a prospectus on each, then assess the trade-offs with risk, return and performance. - 6 - ---------------------------------------- UNDERSTANDING YOUR INVESTMENT OBJECTIVES ---------------------------------------- Investing is an activity which requires discipline. You must have the discipline to save money and also take the time to invest wisely and monitor your results. It always sounds so easy in the IRA or mutual fund brochures, but it really takes a great deal of time and effort. Sometimes when we get involved in stocks and bonds, we lose sight of why we invested in first place. It's fairly easy to get caught up in the roller coaster ride of the swings of the market. Think about how hard you worked to earn the money before you invest. Maybe that will slow you down if you're an impulsive investor! Why Are You Saving? ------------------- The two main reasons most people save are retirement and their children's education. You may have others: building equity for the down payment on a house, saving for a vacation, etc. Mutual funds and stocks and bonds should not be your only savings vehicle. Before embarking on an investment plan, it probably makes sense to have a savings account which has 3-6 months of expenses for emergencies. Most people would also think of a home as one of the best ways to build long term equity. Owning a home is a wonderful investment because it replaces the cost of rent and the interest one pays on your loan may be tax deductible. So before you start into the market, cover the basics first. In order to know how much to save, you need to estimate how much you'll need down the road. For some purposes, this is easy to figure out. If you want to go on vacation in a year, you call up your travel agent, find out how much airline tickets and a hotel will cost, make some estimates for food and entertainment and add 20% or so just to be sure you have enough. If this adds up to $2400, you know you need to save $200 each month ($2400 / 12 months in a year). For longer term savings projects such as retirement or college, it is much more difficult to estimate your needs. For the most part, the difficulty lies in making estimates of costs far into the future. A number of new variables cloud the picture: inflation, the return your savings generates, changes in your needs, etc. - 7 - However, if you think about it, the costs of estimating that vacation has some of these issues. What if airline prices rise? If you're traveling overseas, what happens when the currency exchange rate dips? What if you decide you'd rather have deluxe accommodations? Perhaps saving for retirement is more difficult only because it is so far in the future and the magnitude of the numbers is so great. Try not to be overwhelmed by all of it. If you start early, you have a lot of time to make your savings add up. ------------------------------ Using the Projections Software ------------------------------ As discussed above, trying to figure out how much you'll need to save (or how much you'll have saved if you put aside a certain amount) can be a fairly tricky calculation. The purpose of the projection software is to make the calculations simple for you and allow you to try out different savings scenarios. Our goal is not to tell you exactly what you need to do (because everything is based on your assumptions), but instead to help you identify options. The best way to learn how to use software is to try it out. Therefore, we'll show you step by step using two examples: saving for college and saving for retirement. The menu choices used to bring up each screen are shown above the sample display. Thus, "Menu Option: Projection - Savings Projection" means select the "Savings Projection" option under the "Projection" main menu (top line). Your mouse or arrow keys will move you among inputs in the same "box". Use your mouse or tab key to move from box to box and to the "buttons" at the bottom of the screen (<Recalc>, <Graph> and <Cancel>). Spacebar will erase a value. Spacebar (MS-DOS) or clicking the mouse (Mac) will select a radio button (∙) or "toggle" (turn off or on) a checkbox [X]. Please refer to the appendix for additional instructions and machine specific options. Please note that we're not taking into consideration tax implications, etc. Talk with a qualified professional to fully understand the implications of your investment alternatives. Example 1: Saving for your child's college education. ------------------------------------------------------ You've just had your first child and you want to start saving for his or her college education. You've read in your local paper that the cost of sending a child to your state college will rise to $150,000 in 18 years. That figure overwhelms you and your spouse. You think you might be able to put aside $2,000 each year but you wonder if that will be enough. Some long term CDs where you were planning on putting the savings are yielding 8.5% at your local bank. - 8 - First let's estimate how much you'd be able to save using the local bank and saving $2,000 each year. Select the "Savings Projection" menu option under the "Projection" heading and enter the following values as shown below: ------------------------------------------------------------------------------ Starting balance: 0 No money currently saved. Annual Investment 2000 Put aside $2,000 each year. Rate of Return 8.5 Can get 8.5% at the bank in a CD. Number of Years 18 18 years before the first year of college. Investment Period Annual Select the annual basis for calculations. ------------------------------------------------------------------------------ Make sure the other fields are blank and select <Recalc>. The screen should appear as follows: Menu Option: Projection - Savings Projection ------------------------------------------------------------------------------ +-------------------Untitled Savings Projection------------------+ | +------------------------------------------------------------+ | | | Enter four of the following fields to calculate the fifth: | | | | | | | | Starting Balance [ $0] | | | | Annual Investment [ $2,000] | | | | Annual Rate of Return [ 8.500%] | | | | Number of Years [ 18] | | | |*Ending Balance [ $85,331] | | | | | | | | Investment period: (∙) Annual ( ) Monthly | | | +------------------------------------------------------------+ | | +------------------------------------------------------------+ | | | Inflation Rate [ 0.000%] | | | | Increase Investment with Inflation [ ] | | | | Adjust Ending Balance for Inflation [ ] | | | +------------------------------------------------------------+ | | | | <Recalc> <Graph > <Cancel> | | | +----------------------------------------------------------------+ ------------------------------------------------------------------------------ The ending balance of $85,331 is an estimate of your savings account at the end of 18 years. It appears that you won't have quite enough though you are relieved that you will be able to pay for more than half. Perhaps your child will be able to get loans for the rest of the cost. After scratching your head for awhile, you realize that your salaries will probably be increasing as well. Perhaps you'll be able to put more away each year as time goes by. Let's assume that you'll at least be able to keep up with inflation which is currently running at 4.0% each year. - 9 - Enter 4.0 in the field next to "Inflation Rate". Leave the other fields as they were but also check the box which says "Increase Investment with Inflation" to indicate that you will slowly put aside more each year as your salary increases. Again, select <Recalc>. Note that "Ending Balance" has an asterisk in front of it. This indicates that it will be recalculated when you select the <Recalc> option. The screen should now appear as follows: Menu Option: Projection - Savings Projection ------------------------------------------------------------------------------ +-------------------Untitled Savings Projection------------------+ | +------------------------------------------------------------+ | | | Enter four of the following fields to calculate the fifth: | | | | | | | | Starting Balance [ $0] | | | | Annual Investment (First Period) [ $2,000] | | | | Annual Rate of Return [ 8.500%] | | | | Number of Years [ 18] | | | |*Ending Balance [ $111,713] | | | | | | | | Investment period: (∙) Annual ( ) Monthly | | | +------------------------------------------------------------+ | | +------------------------------------------------------------+ | | | Inflation Rate [ 4.000%] | | | | Increase Investment with Inflation [X] | | | | Adjust Ending Balance for Inflation [ ] | | | +------------------------------------------------------------+ | | | | <Recalc> <Graph > <Cancel> | | | +----------------------------------------------------------------+ ------------------------------------------------------------------------------ The new ending balance of $111,713 reflects the additional amount you'll save by increasing your annual investment by inflation. You're feeling somewhat better now (though worried about having a second child!). You can display a graph of the value of your investment over time by selecting <Graph>. You may also want to get a printout of the detail of this schedule. To generate this printout, go up to the "File" menu and select the "Print" option. This will allow you to print out either to your printer or to a text file. Again, for a further explanation of the printing options, please see the appendix. A sample printed report is shown on the following page. - 10 - Menu Option: Projection - Savings Projection - [new menus] - File - Print ------------------------------------------------------------------------------ Untitled Savings Projection Oct 16, 1992 12:56PM Starting Balance $0 Annual Investment (First Period) $2,000 Annual Rate of Return 8.500% Number of Years 18 *Ending Balance $111,713 Inflation Rate 4.000% Increase Investment with Inflation Yes Adjust Ending Balance for Inflation No End of Balance Balance Annual Year (w/ Infl.) (Infl. Adj) Investment ------ ------------ ------------ ------------ 0 0 0 0 1 2,170 2,087 2,000 2 4,611 4,263 2,080 4 10,416 8,904 2,250 6 17,656 13,954 2,433 8 26,620 19,451 2,632 10 37,649 25,434 2,847 12 51,147 31,946 3,079 14 67,594 39,034 3,330 16 87,559 46,748 3,602 18 111,713 55,145 3,896 ------------------------------------------------------------------------------ Upon further consideration, you wonder what you would have to put aside in order to have the full $150,000 saved in 18 years. Enter 150000 in the field next to "Ending Balance". Then blank out the field next to "Yearly Invest- ment (First Period) to indicate you want to calculate that value. Again, select <Recalc>. You should see that you'd need to put aside $2,685 the first year and then increase that amount by 4.0% each year in order to have saved $150,000 in 18 years. Of course, there's another way to achieve the $150,000 of savings. If some- how you were able to increase your return, you might not have to put aside more than $2,000 (+ inflation). See if you can figure out how to calculate the return necessary for this to occur. The answer should be 11.453%. To get this value, enter 2000 in the "Annual Investment" field and make the "Rate of Return" field blank. Select <Recalc> again. When you are finished entering assumptions and want to move on to the second example, select <Cancel> and discard the changes. As you can see, it is fairly easy to try out different assumption and see what the effects are on your investment plan. Remember, of course, that - 11 - estimates of inflation and return (and perhaps annual investment) are only assumptions, and will not be the actual values as time goes forward. However, by better understanding your options, you'll have a much better grasp of the situation and be able to adjust accordingly as time goes on. Example 2: Saving for your retirement. --------------------------------------- You've just turned 40 and realize you're not getting any younger. You know you've got to start saving for your retirement. To start with, you figure you and your spouse (both work) can start putting aside $2,000 each year in an IRA at a local bank which pays 8.0%. How much will you have to retire on at age 65? Again, select the "Savings Projection" menu option under the "Projection" heading and enter the following values as shown below: ------------------------------------------------------------------------------ Starting balance 0 No money currently saved. Yearly Investment 4000 You each put aside $2,000 each in an IRA. Rate of Return 8.0 Can get 8.0% at the bank in a IRA account. Number of Years 25 65-40 = 25 years before retirement. Investment Period Annual Select the annual basis for calculations. ------------------------------------------------------------------------------ Leave the other fields blank (or make them blank). Then select <Recalc> and the screen should appear as follows: Menu Option: Projection - Savings Projection ------------------------------------------------------------------------------ +-------------------Untitled Savings Projection------------------+ | +------------------------------------------------------------+ | | | Enter four of the following fields to calculate the fifth: | | | | | | | | Starting Balance [ $0] | | | | Annual Investment [ $4,000] | | | | Annual Rate of Return [ 8.000%] | | | | Number of Years [ 25] | | | |*Ending Balance [ $315,818] | | | | | | | | Investment period: (∙) Annual ( ) Monthly | | | +------------------------------------------------------------+ | | +------------------------------------------------------------+ | | | Inflation Rate [ 0.000%] | | | | Increase Investment with Inflation [ ] | | | | Adjust Ending Balance for Inflation [ ] | | | +------------------------------------------------------------+ | | | | <Recalc> <Graph > <Cancel> | | | +----------------------------------------------------------------+ ------------------------------------------------------------------------------ - 12 - The ending balance of $315,818 sounds pretty reasonable. Perhaps saving for retirement isn't so difficult after all. On the other hand, though that seems like a lot, inflation will reduce the value in real terms. What would the $315,818 be worth in the value of today's dollars? Again, let's assume inflation runs at an average of 4.0%. Enter 4.0 in the field next to "Inflation Rate". Leave the other fields as they were but also check the box which says "Adjust Ending Balance for Inflation" to indicate that you want to see the ending balance in today's dollars. Again, select <Recalc>. The adjusted ending balance (constant dollars) is $118,469. This helps you understand the true value of your future savings. The effects of inflation are substantial. You still think, $118,469 is not as good as $315,818, but not bad. How long will the $118,469 last? You estimate that you could live on $30,000 / year (in today's dollars) when you retire. To calculate how long your principal will last, you'll need to use a different menu option. Go up to the menus and select "Annuity Projection". Enter the following values as shown below: ------------------------------------------------------------------------------ Starting balance: 118469 The future value of your savings. Yearly Income 30000 The $30,000 you want to live on. Rate of Return 8.0 8.0% at the bank in a IRA account. Number of Periods Blank To be calculated Ending Balance 0 Use up your savings Investment Period Annual Select the annual basis for calculations. ------------------------------------------------------------------------------ Also enter 4.0 for inflation and mark increase income with inflation (so that you will be able to maintain the same standard of living). Now select <Recalc>. The screen will appear as shown on the following page: - 13 - Menu Option: Projection - Annuity Projection ------------------------------------------------------------------------------ +-------------------Untitled Savings Projection------------------+ | +------------------------------------------------------------+ | | | Enter four of the following fields to calculate the fifth: | | | | | | | | Starting Balance [ $118,469] | | | | Annual Investment [ $30,000] | | | | Annual Rate of Return [ 8.000%] | | | | Number of Years [ 4] | | | |*Ending Balance [ $0] | | | | | | | | Investment period: (∙) Annual ( ) Monthly | | | +------------------------------------------------------------+ | | +------------------------------------------------------------+ | | | Inflation Rate [ 4.000%] | | | | Increase Investment with Inflation [X] | | | | Adjust Ending Balance for Inflation [ ] | | | +------------------------------------------------------------+ | | | | <Recalc> <Graph > <Cancel> | | | +----------------------------------------------------------------+ ------------------------------------------------------------------------------ Your savings will run out 4 years after you retire (at age 69). Ouch... Fortunately, you do have some other sources of income. First of all there's social security which you estimate will provide you with an extra $10,000 of income / year (you can get an estimate of this from the social security administration). Second, your spouse does have a retirement plan at work that will provide 60% of current income ($12,000 / year). This leaves you with only $8,000 to come up with. Therefore, change the annual income to $8,000 and <Recalc>. Now you have 21 years before your savings will be depleted. On the other hand, your expenses might be more than you expect and you'd like to have an emergency fund if there are additional problems. Furthermore, it would be nice to live at the same level of income you currently have. Finally, you want to make sure you have enough to maintain this through age 85. You decide it would be good to always have $50,000 for emergencies. Second, your current combined income is $45,000 and you'd like to maintain that if possible. What would your starting balance need to be under this new scenario? - 14 - Enter the following values as shown below: ------------------------------------------------------------------------------ Starting balance: Blank The future value of your savings. Annual Income 23000 $45,000 less $10,000 less $12,000 Rate of Return 8.0 Still getting 8.0% at the bank. Number of Periods 20 85 - 65 = 20 Ending Balance 50000 Maintain $50,000 for emergencies Investment Period Annual Select the annual basis for calculations. ------------------------------------------------------------------------------ Also enter 4.0 for inflation and mark increase income with inflation (so that you will be able to maintain the same standard of living) and mark adjust ending balance for inflation (so the $50,000 will still be worth $50,000 in today's dollars at age 85). Now select <Recalc>. The screen will appear as below: Menu Option: Projection - Annuity Projection ------------------------------------------------------------------------------ +-------------------Untitled Annuity Projection------------------+ | +------------------------------------------------------------+ | | | Enter four of the following fields to calculate the fifth: | | | | | | | |*Starting Balance [ $352,572] | | | | Annual Income (First Period) [ $23,000] | | | | Annual Rate of Return [ 8.000%] | | | | Number of Years [ 20] | | | | Ending Balance (Inflation Adjusted) [ $50,000] | | | | | | | | Investment period: (∙) Annual ( ) Monthly | | | +------------------------------------------------------------+ | | +------------------------------------------------------------+ | | | Inflation Rate [ 4.000%] | | | | Increase Income with Inflation [X] | | | | Adjust Ending Balance for Inflation [X] | | | +------------------------------------------------------------+ | | | | <Recalc> <Graph > <Cancel> | | | +----------------------------------------------------------------+ ------------------------------------------------------------------------------ The starting balance shows $352,572. Therefore, you'd need to save that amount (in today's dollars) by age 65. Let's go back and see what you'd need to put aside each year in order to achieve that level of savings. To switch back to that "window", go up to the "Window" menu and select "Switch to Window" and then select "Untitled Savings Projection". Enter 352572 in the ending balance field and make the yearly investment field blank. Select <Recalc> and you'll see that you need to put aside $11,904. However, you remember that as your salary goes up (hopefully), you'll be able to put aside more. So check the "Increase Investment with Inflation" box and - 15 - <Recalc> again. You'll see that you need to put aside $8,323 the first year and increase that amount by 4.0% each year in order to have $352,572 in your account at age 65. This example is shown below: Menu Option: Projection - Savings Projection ------------------------------------------------------------------------------ +-------------------Untitled Savings Projection------------------+ | +------------------------------------------------------------+ | | | Enter four of the following fields to calculate the fifth: | | | | | | | | Starting Balance [ $0] | | | |*Annual Investment (First Period) [ $8,323] | | | | Annual Rate of Return [ 8.000%] | | | | Number of Years [ 25] | | | | Ending Balance (Inflation Adjusted) [ $352,572] | | | | | | | | Investment period: (∙) Annual ( ) Monthly | | | +------------------------------------------------------------+ | | +------------------------------------------------------------+ | | | Inflation Rate [ 4.000%] | | | | Increase Investment with Inflation [X] | | | | Adjust Ending Balance for Inflation [X] | | | +------------------------------------------------------------+ | | | | <Recalc> <Graph > <Cancel> | | | +----------------------------------------------------------------+ ------------------------------------------------------------------------------ If you only wanted to put aside $4,000 each year (because of IRA limitations), what return would be necessary to generate the $352,572? Enter 4000 in "Yearly Investment" and make the "Rate of Return" field blank. Select <Recalc> and you'll see that you need to generate a return of 13.053% per year. Now you may want to search around for an investment strategy that will generate that type of long term return. You can use the "Compare" menu option to see how some mutual funds might fit into that strategy. This is the way you should use this tool. Change your assumptions (and perhaps your expectations...?). Use these tools to better understand your current and future financial situation. Inflation Issues ---------------- Taking inflation into consideration can sometimes make your calculations more difficult to understand. However, it is absolutely essential to adjust for inflation when you are projecting dollars far into the future. Even with low inflation rates of 3-4%, the cumulative effect on the value of your savings is substantial. As an example, if you currently have $10,000 in a savings account earning 4% interest and inflation is running at 4%, we know that - 16 - you're basically just maintaining the true value of your savings (disregarding tax consequences). If you project this $10,000 twenty years into the future at 4%, you will have $21,911. This sounds like you're making progress, but we know it is still just running in place. The inflation adjusted value of that savings is still $10,000. In other words, the $21,911 twenty years from now will buy the same goods that $10,000 buys today. When to use the Inflation Checkboxes ------------------------------------ On the savings projection menu option, use the "adjust ending balance for inflation" checkbox if you want the ending balance to be displayed in today's dollars. Use the "increase investment with inflation" checkbox only if you are making a annual investment that you plan to increase each year by an amount similar to the inflation rate. Examples of this would be if your investment was based on a percentage of your salary and you expected to at least maintain cost of living increases in your salary. On the annuity projection menu option, use the "adjust ending balance for inflation" checkbox if you want the ending balance to be displayed in today's dollars. Use the "increase income with inflation" checkbox if you want to make sure the purchasing power of the income stream remains the same over time. This of course will decrease your principal sooner, but allows you to maintain the same standard of living (assuming expenses only increase with inflation). Saving Your Assumptions ----------------------- If you'd like to save a set of assumptions so that you can reload them at a later date, just select "File - Save" or save the changes when you close the window. You'll then be able to type in the name of the save file. To re-use this data at a later date, choose "File - Open" and select the file you want to view. The data is saved on individual files which can be easily copied or renamed. - 17 - ---------------------- COMPARING MUTUAL FUNDS ---------------------- Mutual funds as an investment alternative offer several benefits to an investor: ∙ Professional management of a stock or bond portfolio. ∙ Diversification of investment risk. ∙ Small initial investment (some as low as $25). ∙ Low cost as compared with buying stocks and bonds on your own. In other words, mutual funds are designed for people who don't have the time or expertise to invest in the stock and bond markets or who want to diversify the risk and lower the costs typically associated with a small stock and bond portfolio. However, mutual funds are not all alike. Each mutual fund has a specific investment objective which you need to consider. Some may invest in bonds, others may invest in stocks and still others may invest in both. In addition, some funds are better managed and therefore may outperform other funds with similar investment objectives. It is therefore important that you develop an investment strategy that makes sense for you. Developing this strategy is nothing more than determining your future needs, analyzing your current savings ability, understanding your feelings about risk versus return, and finally, selecting appropriate investments to try to meet your objectives. At least this is the way your investment advisor would describe it. Though your advisor is right, "nothing more" refers to an fair amount of work and self questioning. Again, our objective with this software and manual is to help you make an informed investment decision. There are four important factors which should be considered when developing an investment strategy: your investment horizon, your attitude toward risk, your need for diversification of assets and mutual fund performance. A brief discussion of the first three is located in the appendix. The remainder of this section is devoted to using the software to track the fourth factor, mutual fund performance. - 18 - ----------------------------- Using the Comparison Software ----------------------------- The comparison software contains over 500 mutual funds of the largest 25 mutual fund families. The purpose of this software is to allow you to quickly generate a list of funds which meet specified criteria. For example, you can generate a list of all growth funds which have achieved at least a 15% return over 5 years and charge no load on your investment. The information contained for each fund in the database is as follows: Fund name, fund family, 800 phone number, fund objective (type), size (assets held in $millions), minimum initial investment, load, expenses, cash, stock and bond holdings (by %), yield for most recent year (dividends + interest), 1, 3, 5 and 10 year return. There are a few definitions which are important to note. First an "NA" means the data was not available. For the most part, this shows up in the 5 and 10 year returns, which means that the fund was not in existence 5 or 10 years ago. Therefore, by making the N/A box blank, funds which don't have 5 years of historical returns would be excluded. Second, for the fund objective, we use broad groupings for easier comparisons as described below: Growth: Growth, maximum growth, small company, growth / income Income: Income, utilities, equity income, balanced, asset allocation, convertible bonds International: International stock and bond funds Specialty: Sector funds, options, technology, health care Gov't Bond: Treasury and government backed bonds / mortgages Corporate Bonds: Corporate bonds and high yield corporate bonds Municipal Bonds: US, state and local municipal bonds Again, probably the best way to show you how to use the software is by example. So let's run through a few examples which will take you through the menus and illustrate the power of the software. Example 1: Finding an appropriate fund. ---------------------------------------- You've decided to test the waters with a small investment in a balanced or income fund. You want to invest in a fund which has a respectable historical return (over 10%) and has a low load (under 3%). Select the "Individual Funds" menu option under the "Compare" heading and enter the following values as shown below. Remember, your mouse or arrow keys will move you among inputs in the same box. Use your mouse or tab key to move from box to box and to the "buttons" at the bottom of the screen (<Recalc>, <Graph> and <Cancel>). - 19 - Spacebar will blank out a value. Spacebar or clicking the mouse will select a radio button (∙) or a "toggle" (turn off or on) a checkbox [X]. Please refer to the appendix in the back of this manual for additional instructions and machine specific options. Menu Option: Compare - Individual Funds ------------------------------------------------------------------------------ +---------------------------Fund Selection---------------------------+ | +-Selection Criteria---------------------------------------------+ | | | Show If | | | | > = < Value N/A? | | | | 1 Year Return (∙) ( ) ( ) [ ] [X] | | | | 3 Year Avg. Return (∙) ( ) ( ) [ ] [X] | | | | 5 Year Avg. Return (∙) ( ) ( ) [ 10.0%] [ ] | | | | 10 Year Avg. Return (∙) ( ) ( ) [ ] [X] | | | | Yield (∙) ( ) ( ) [ ] [X] | | | | Load (%) ( ) ( ) (∙) [ 3.0%] [X] | | | | Expenses (%) ( ) ( ) (∙) [ ] [X] | | | | Min. Investment ( ) ( ) (∙) [ ] [X] | | | +----------------------------------------------------------------+ | | +-Fund Objectives-------+ +-Fund Families--------+ | | | [ ] Growth | | AIM | <Report> | | | [X] Income | | Alliance | | | | [ ] International | | Amer Capital | | | | [ ] Specialty | | American | < Sort > | | | [ ] Government Bonds | | Dean-Witter | | | | [ ] Corporate Bonds | | Dreyfus | | | | [ ] Municipal Bonds | | Fidelity | <Cancel> | | +-----------------------+ +---------------------- | +--------------------------------------------------------------------+ ------------------------------------------------------------------------------ Now, select <Report>. You'll then get a listing of all income funds which have had a 5 year return over 10% and a load of 3% or less as shown on the following page. Note that the default sort order is by 5 year return. This can be changed by selecting <Sort>. The <Sort> option will allow you to order the display of funds by any of the following fields: 1, 3, 5, 10 year return (5 year return is the default), yield, load, expenses or minimum investment. Let's explore the other options at the bottom of screen. <Detail> will show all the information in the database about the fund which is currently high- lighted. For instance, if you select the Financial Industrial Income fund (at the top of the screen), you'll get the fund detail screen (also shown on the following page). There may be additional information in the "Note" field, or you may type in your own comments for reference. Selecting <Save> will permanently store these comments in the database. - 20 - Menu Option: Compare - Individual Funds - Report ------------------------------------------------------------------------------ +--------------------------------Fund Report---------------------------------+ | Data for 1991 sorted by 5 Year Avg. Return | | | | Funds (9 found) Obj Yld 1yr 3yr 5yr 10yr Load Exp | | +--------------------------------------------------------------------------+ | |∙Financial Industrial Incom Inc 2.6 46.3 24.9 18.7 20.1 0.0 0.9 | | | | Kemper Invest. Port. Total Inc 2.7 42.5 19.7 14.2 NA 3.0 2.2 | | | | Fidelity Balanced Inc 4.7 26.8 14.7 12.3 NA 0.0 1.0 | | | | Price Equity Income Inc 4.1 25.3 9.9 11.9 NA 0.0 1.0 | | | | Wellington Inc 5.0 23.6 13.5 11.7 16.2 0.0 0.4 | | | | Vanguard Star Inc 4.9 24.2 12.4 11.4 NA 0.0 0.0 | | | | Wellesley Income Inc 7.0 21.5 15.1 11.2 15.9 0.0 0.4 | | | | Financial Strategic Utilit Inc 3.2 28.0 14.8 10.5 NA 0.0 1.3 | | | | Fidelity Puritan Inc 5.7 24.5 11.7 10.2 16.3 2.0 0.7 | | | | | | | +--------------------------------------------------------------------------+ | | | <Detail> <Project> < Sort > <Cancel> | | | +----------------------------------------------------------------------------+ ------------------------------------------------------------------------------ Menu Option: Compare - Individual Funds - Report - Detail ------------------------------------------------------------------------------ +-----------------Fund Detail: Financial Industrial Income-----------------+ | +----------------Financial Industrial Income (1991)--------------------+ | | | Family Financial | | | | Phone (800) 525-8085 | | | | Fund Objective Income (Equity/Income) | | | | Size (Millions) $1,597 All Funds | | | | Min. Investment $250 Return Percentile | | | | Load 0.00% Yield 2.6% 58 | | | | Expenses 0.94% 1 Year Return 46.3% 13 | | | | Cash Holdings 8.0% 3 Year Avg. 24.9% 10 | | | | Stock Holdings 74.0% 5 Year Avg. 18.7% 8 | | | | Bond Holdings 18.0% 10 Year Avg. 20.1% 4 | | | | | | | | Note: | | | | [ ] | | | | [ ] | | | +----------------------------------------------------------------------+ | | | | < Save > <Cancel> | | | +--------------------------------------------------------------------------+ ------------------------------------------------------------------------------ - 21 - The <Project> option will show a financial projection (similar to the "Savings Projection" menu option) for the fund which is currently selected. Again, if you select the Financial Industrial Income fund, you'll get the following screen: Menu Option: Compare - Individual Funds - Report - Project ------------------------------------------------------------------------------ +----------Fund Projection: Financial Industrial Income----------+ | +------------------------------------------------------------+ | | | Enter four of the following fields to calculate the fifth: | | | | | | | | Initial Investment [ $10,000] | | | | Annual Investment [ $0] | | | | Annual Rate of Return [ 18.700%] | | | | Number of Years [ 5] | | | |*Ending Balance [ $23,564] | | | | | | | | Investment period: (∙) Annual ( ) Monthly | | | +------------------------------------------------------------+ | | +------------------------------------------------------------+ | | | Load [ 0.000%] | | | | Expenses [ 0.940%] | | | | Total Load and Expenses $809 | | | +------------------------------------------------------------+ | | | | <Recalc> <Graph > <Cancel> | | | +----------------------------------------------------------------+ ------------------------------------------------------------------------------ You can change any of the editable fields. If you select 1, 3, 5 or 10 years, the rate of return will reflect the return for the fund in the database for that period. Other time frames can be entered, but you'll have to supply the rate of return. The cumulative load and expense costs will be displayed at the bottom of the screen to indicate the total estimated cost of investing in this fund. You can also print a report (hard copy or to a file on IBM compatibles) by going up to the "File" menu and selecting "Print". Please see the appendix for more details on how to use the "Printer Setup" menu choice and other print report options. An example report is displayed on the following page where the user selected government, corporate and municipal bond funds which have a 5 year return over 10% and the load is not specified. Notice that the sort order, objectives, and selection criteria are printed at the top. - 22 - Menu Option: Compare - Individual Funds - Report - [new menu] - File - Print ------------------------------------------------------------------------------ Fund Report Oct 16, 1992 1:44PM Year of data: 1991 Sort by: 5 Year Avg. Return Objectives: GBd (Gov't Bonds) CBd (Corporate Bonds) MBd (Municipal Bonds) Criteria: 5 Year Avg. Return > 10.0% Families: (All) Fund Obj Yld 1Yr 3Yr 5Yr 10Yr Load Exp -------------------------- --- ----- ----- ----- ----- ----- ---- ---- Merrill Lynch High Income CBd 12.7 40.1 11.7 10.5 13.6 4.0 0.7 Vanguard GNMA GBd 8.0 16.8 13.9 10.4 13.8 0.0 0.3 Dreyfus Strategic Income CBd 8.3 19.1 12.7 10.3 NA 4.5 0.9 Vanguard Investment Grade CBd 8.0 20.9 13.9 10.2 13.5 0.0 0.3 ------------------------------------------------------------------------------ - 23 - Example 2: Finding an Appropriate Fund Family. ----------------------------------------------- You've decided you'll probably invest in an income fund, but you're also considering international and sector funds as a possible additional invest- ment down the road. You'd like to find a family of funds which has all three types and allows an initial investment of $1000 or less and a load of under 5%. To find a listing of the fund families which meet these criteria, select the "Fund Families" menu option under the "Compare" heading and enter the following values as shown below. Menu Option: Compare - Fund Families ------------------------------------------------------------------------------ +--------------------------Family Selection--------------------------+ | +-Selection Criteria---------------------------------------------+ | | | Show If | | | | > = < Value N/A? | | | | 1 Year Return (∙) ( ) ( ) [ ] [X] | | | | 3 Year Avg. Return (∙) ( ) ( ) [ ] [X] | | | | 5 Year Avg. Return (∙) ( ) ( ) [ ] [X] | | | | 10 Year Avg. Return (∙) ( ) ( ) [ ] [X] | | | | Yield (∙) ( ) ( ) [ ] [X] | | | | Load (%) ( ) ( ) (∙) [ 5.0%] [X] | | | | Expenses (%) ( ) ( ) (∙) [ ] [X] | | | | Min. Investment ( ) ( ) (∙) [ $1,000] [X] | | | +----------------------------------------------------------------+ | | +-Fund Objectives------------------------------+ | | | | <Report> | | | [ ] Growth [ ] Government Bonds | | | | [X] Income [ ] Corporate Bonds | < Sort > | | | [X] International [ ] Municipal Bonds | | | | [X] Specialty | <Cancel> | | +----------------------------------------------+ | +--------------------------------------------------------------------+ ------------------------------------------------------------------------------ If you then select report, you'll find that 4 fund families meet these criteria and are displayed as shown on the following page. You can then view the detail of each family (and ultimately, of each fund), by selecting the fund family (when a fund is selected, a mark will appear at the left of the fund name) and choosing < Fund >. This display is the same as the one found under the "Individual Funds" menu choice, but only contains the funds of a particular group and which meet your objectives (in the above example, income, international and specialty). See the section on choosing individual funds for more detail on your options at this point. - 24 - Menu Option: Compare - Fund Families - Report ------------------------------------------------------------------------------ +-------------------------------Family Report--------------------------------+ | Year: 1991 | | | | Families (4 found) Yld 1yr 3yr 5yr 10yr Load Exp | | +------------------------------------------------------------------------+ | | |∙Financial 1.6 36.3 18.2 14.3 20.1 0.0 1.4 | | | | Kemper 2.8 32.0 17.1 12.6 14.9 4.9 1.3 | | | | Dean-Witter 3.5 19.4 11.9 8.4 7.0 5.0 1.9 | | | | Prudential 2.1 19.0 11.0 8.3 NA 5.0 2.3 | | | | | | | | | | | +--------------------------------------------------------------------------+ | | | < Fund > < Sort > <Cancel> | | | +----------------------------------------------------------------------------+ ------------------------------------------------------------------------------ You may also choose to print a report which will show the detail of each fund family which meets your criteria. This is done by selecting the "Print" choice under the "File" menu. An example of this printout is shown on the next page. As mentioned earlier, this software should only be a beginning in your search for investment opportunities. Be sure to order a fund prospectus and read it carefully. If you like the historical record of a particular fund, make sure the investment advisor is still the same group or individual that posted those attractive returns. A change in the management of the fund often can lead to a change in the performance of the fund (positive or negative). In addition, this software only tracks the largest mutual fund companies. There are hundreds of other funds available in the market. Perhaps if there are enough interested shareware buyers of our software, we'll expand the database to include more fund families. For now, though, this should provide you with a good start. - 25 - Family Report Oct 16, 1992 1:45PM Year of data: 1991 Sort by: 1 Year Return Objectives: Inc (Income) Int (International) Spc (Specialty) Criteria: Load < 5.0% or N/A Min. Investment < $1,000 or N/A Fund Obj Yld 1Yr 3Yr 5Yr 10Yr Load Exp -------------------------- --- ----- ----- ----- ----- ----- ---- ---- Financial Strategic Health Spc 0.2 91.8 56.7 36.7 NA 0.0 1.1 Financial Strategic Techno Spc 0.0 76.9 32.6 20.3 NA 0.0 1.3 Financial Strategic Fin. S Spc 0.8 74.0 30.3 18.2 NA 0.0 2.5 Financial Industrial Incom Inc 2.6 46.3 24.9 18.7 20.1 0.0 0.9 Financial Strategic Utilit Inc 3.2 28.0 14.8 10.5 NA 0.0 1.3 Financial Flex Inc 4.2 24.9 14.0 NA NA 0.0 1.0 Financial Strategic Pacifi Int 0.8 13.2 0.9 6.8 NA 0.0 1.8 Financial Strategic Europe Int 3.2 8.0 10.6 7.4 NA 0.0 1.3 Financial Intl. Growth Int 1.2 7.2 2.1 NA NA 0.0 1.5 Financial Strategic Gold Spc 0.0 -7.0 -4.7 -4.3 NA 0.0 1.3 ----- ----- ----- ----- ----- ---- ---- Financial 1.6 36.3 18.2 14.3 20.1 0.0 1.4 Kemper Technology Spc 0.7 44.4 21.9 14.8 14.8 5.8 0.7 Kemper Retirement I Inc 3.3 43.4 NA NA NA 5.0 1.2 Kemper Invest. Port. Total Inc 2.7 42.5 19.7 14.2 NA 3.0 2.2 Kemper Retirement II Inc 1.9 41.9 NA NA NA 5.0 1.2 Kemper Total Return Inc 3.2 40.2 20.5 13.2 15.1 5.8 0.9 Kemper Environmental Servi Spc 0.0 24.2 NA NA NA 5.8 1.5 Kemper Short-Term Global I Int 10.3 10.3 NA NA NA 3.5 1.3 Kemper International Int 0.0 9.1 6.2 8.4 14.9 5.8 1.3 ----- ----- ----- ----- ----- ---- ---- Kemper 2.8 32.0 17.1 12.6 14.9 4.9 1.3 Dean-Witter Strategist Inc 1.7 32.2 18.5 NA NA 5.0 1.6 Dean-Witter Convertible Se Inc 6.2 27.3 8.3 4.4 NA 5.0 1.9 Dean-Witter Managed Assets Inc 3.1 26.4 11.1 NA NA 5.0 1.7 Dean-Witter Equity Income Inc 2.1 24.3 15.1 10.3 NA 5.0 2.1 Dean-Witter World Wide Inv Int 0.3 19.2 7.7 8.5 NA 5.0 2.3 Dean-Witter Utilities Inc 5.1 18.6 13.8 NA NA 5.0 1.6 Dean-Witter Natural Resour Spc 1.9 6.4 8.5 10.4 7.0 5.0 1.9 Dean-Witter World Wide Inc Int 7.9 1.1 NA NA NA 5.0 1.8 ----- ----- ----- ----- ----- ---- ---- Dean-Witter 3.5 19.4 11.9 8.4 7.0 5.0 1.9 Prudential Equity Income Inc 2.3 25.6 12.5 NA NA 5.0 2.2 Prudential Flexifund Strat Inc 2.8 25.5 14.8 NA NA 5.0 2.1 Prudential Flexifund Conse Inc 3.2 21.4 13.0 NA NA 5.0 2.1 Prudential Utility B Inc 3.9 19.0 15.1 11.4 NA 5.0 1.7 Prudential Global B Int 0.0 12.3 1.6 4.4 NA 5.0 2.6 Prudential Total Return B Spc 0.5 10.3 9.3 9.1 NA 5.0 2.9 ----- ----- ----- ----- ----- ---- ---- Prudential 2.1 19.0 11.0 8.3 NA 5.0 2.3 - 26 - ------------------------------- APPENDIX A: MUTUAL FUND BASICS ------------------------------- A mutual fund is nothing more than a professionally managed portfolio of stocks and/or bonds (or other investments). Typically, a mutual fund will have specific investment guidelines such as investing in small companies, treasury bills, utilities, or international stocks. However, before launching into more detail about choosing a mutual fund, it probably makes sense to define some of the terms which you'll encounter. Let's start with a definition of the usual holdings or investments in a mutual fund - stocks and bonds. By the way, for those of you who are experts on these subjects, you'll notice that we leave out much of the detail in order to keep it simple. Stocks ------ If a company is incorporated, the owners of the company are said to be shareholders or stockholders. These owners may have initially invested money in the company or bought shares of stock from a previous owner. As the value of the company increases, the value of the stock held by the shareholders goes up. The difficult part is knowing when the value of the company changes. In the most simple case, if someone started a company by investing $10,000 (a 100% owner) and later sold the whole company for $20,000, we know that the value of the company increased 100% or doubled. It would follow that the value of each share of stock also doubled (assuming the same number of shares of stock existed). Now let's add some complexity to this equation. Most of the companies that are familiar to you (IBM, GM, etc.) are what are called publicly traded companies. These companies have millions of shares owned by various parties and the shares of stock are bought and sold (traded) daily in the financial markets (New York Stock Exchange, NASDAQ, etc.). The value of the company is based on the "share price" of that stock. This is the price listed daily in your newspaper. Therefore, if a company's stock is selling at $20 / share one day and there are 1 million shares available, the company would be worth $20 million. The next day, if the price rose to $21 / share, the value of the company would rise to $21 million. If you owned a share of that stock, you just made a gain of $1.00 (on paper and less commissions, of course). The key, of course, is knowing when to buy and sell these stocks. - 27 - In addition to gains through an increase in the price of a stock ("capital gains"), one can also make money through dividend payments. Most companies which pay dividends to shareholders do so each quarter (different days for different companies). For example, each share of stock might receive dividends of $1.00 during the year (or 25¢ / quarter). Thus, if you owned 100 shares, you'd receive $25.00 each quarter. The current dividend return or "yield" is calculated by dividing the dividend by the share price. Thus, if the share price of the above stock were $20.00, the return from dividends would be 5% ($1.00 / $20.00). As you might expect, there is a wide range in the amount of dividend payments. A small, high growth company may pay no dividends, because it will typically need as much cash as possible to fuel growth (and hopefully increase the value of the company). On the other hand, some companies such as utilities or mature firms pay fairly high dividends, perhaps over 5% a year. Dividends are not guaranteed, but assuming a firm has a fairly stable financial situation, the dividend payment is likely to stay at a similar level. Mutual funds are among the largest shareholders of many of the companies traded on the stock exchanges. A mutual fund manager attempts to buy shares of stock that he or she thinks will increase in value or provide steady dividend payments and sell those which will decrease. As you might imagine (or if you have had much experience with the market), this is fairly difficult to do. In fact, many mutual funds and professional investors produce returns no better than the market as a whole. This should not necessarily dissuade you from investing in mutual funds, but it does underscore the fact that the choice of which fund to invest in is an important one. Bonds ----- Bonds are actually just one example of a broader category of investments which are referred to as "fixed-income securities". These securities are really nothing more than an agreement between a borrower or issuer (e.g. the government, a corporation, an individual, etc.) and a lender which calls for a specific periodic payment (may be interest only or interest and principal) and typically a fixed term or length of the loan. A simple example of this might be if you loaned a friend $1000 for one year on January 1st at 12% interest. At the end of the year, he would agree to pay you back the $1000 plus interest of $120 (.12 x 1000). The $1000 would be referred to as the principal or the face value of the loan. Another approach to receiving the interest payments could be to receive $10 at the end of each month (1% per month) and at the end of December, you'd get $1010 - 28 - ($1000 of principal plus $10 for the last interest payment). A third type of repayment schedule would be to have your friend pay back a portion of the principal each month along with interest (say $88.85 each month). This type of loan uses the same method of calculation as a home mortgage. Let's assume you used the second type of loan above and happily received $60.00 of interest payments through the end of June. Then you decided that you'd really like to use that $1000 to buy something. Unfortunately, your friend still needed the money and could not repay early. Perhaps you could sell the loan to someone else and use the proceeds for your purchase. What would someone be willing to pay for your loan? There are two pieces of information you'd probably need to assess before answering that question. First, what interest rate could someone receive on a similar type of loan today and second, what is the likelihood that your friend will be able to pay back the principal? If a similar loan were only paying 6% interest today, one would probably be willing to pay more for the loan because one would receive $10 payments instead of the $5 which would be appropriate for a 6% loan on $1000 (5 = 1000 x .06 x 1/12). ** Thus, rule number one for bonds is: as interest rates go down the price of the bond goes up (and vice versa). The other factor that influences the price of a bond is the risk of non- payment. Let's say that your friend had just lost his job in April and though he's continued to make the $10 payments, it's not quite as certain he'll continue to make ends meet. Since there may be some added risk involved (i.e. your friend is less likely to make payments or repay the principal), one probably wouldn't be willing to pay as much for the loan. ** Thus, rule number two for bonds is: as the risk of non-payment increases, the price of the bond decreases (and vice versa). Types of Fixed-Income Securities -------------------------------- There are a wide variety of fixed-income securities traded on the market. A short description of some of the more well known ones are listed below, generally in order of increasing risk. Treasury Bills are short term obligations (not more than one year) issued by the US government. The minimum denomination offered is $10,000 and the bills are sold at a discount to face value (i.e. a $10,000 might be sold at $9,700). - 29 - The quoted price is expressed as a percent of face value (i.e. $300 / $10,000 = 3% in the previous example). The annual yield can be computed based on the maturity date of the bill and is usually listed in the newspaper. Treasury Notes and Bonds are longer term US government obligations (over one year). The minimum denomination of notes and bonds tends to be $1,000 with semi-annual interest payments to the bondholder. The price of T-Notes and T- Bonds are expressed in 32nds of a "point" where par value equals 100 points. Treasury bills, notes and bonds are all backed by the full faith of the US government and are therefore free of any default risk (we assume the government can always print more money to meet these obligations). They are also exempt from all state and local taxes. Government National Mortgage Association (GNMA) and other government spon- sored enterprises issue bonds as well. Though not explicitly backed by the government, they are widely considered to have little or no default risk because of the close association with the government. Municipal Securities are issued by state and local governments and are either general obligation bonds or revenue bonds. Revenue bonds are backed only by the revenues generated by the specific project associated with the bond (e.g. a toll road) whereas general obligation bonds are backed by the municipality and taxes to be raised in order to meet the obligations. Municipal bond interest is exempt from federal taxes and usually from state and local taxes. Short-Term Corporate Securities are referred to as money market instruments. Examples of short-term securities are commercial paper, negotiable certi- ficates of deposit, bankers acceptances, federal funds and Eurodollar deposits. These are generally considered very low risk investments because of the short term and the low possibility of default. Long-Term Corporate Securities and Preferred Stock are issued by a number of firms in the US. There are various features which distinguish bonds including callability, convertibility, sinking fund provisions, degree of subordination, and most importantly, investment risk. Standard & Poor's and Moody's both have a bond rating service which is the usual way that investors assess risk. The ratings range from AAA (or Aaa) to D (or C) with AAA bonds being of highest quality (low investment risk). Low rated bonds are referred to as junk bonds and typically have higher yields but also high variability and high risk. Mutual funds also hold a significant portion of bond market issues. Often, mutual funds will specialize in a particular bond type (such as treasury issues, municipals, or corporate). Though individuals can invest in these - 30 - bonds directly (and many do), a small investor may find the $10,000 minimum on T-Bills or the commissions a bit high. For these investors, mutual funds offer a good alternative. Net Asset Value (NAV) --------------------- The value of a mutual fund is based on the value of its investments (stocks and bonds). Thus, a mutual fund's value increases when the price of its holdings increase or when the holdings produce income (stock dividends or bond interest payments). A fund's value decreases when its underlying investments decrease in value (i.e. the stocks owned by the mutual fund went down). The fund's value on a per share basis is referred to as the "Net Asset Value" or NAV. The share price or NAV is just what one unit of ownership in the fund is worth. Thus, if the total assets held in the mutual fund are worth $100 million (a relatively small fund!), and there are 10 million shares outstanding, the NAV or share price would be $10.00 (100 million divided by 10 million). Most mutual funds have distributions on at least an annual basis. There are two types of distributions: dividends and capital gains. These distributions correspond to the two ways that a fund's NAV increase in value. Dividend distributions are usually made semi-annually or quarterly. Capital gains distributions are almost always made only once a year. When this distribution is made, mutual fund shareholders can usually choose to receive a check or reinvest the amount of the distribution. On the day the distribution is made, the NAV will decline by the amount of the distribution on a per share basis. Return and Yield ---------------- Return refers to the increase in value of your holdings over a given period of time. Thus, a one year return of 20% means that the value of your holdings increased by 20% over the last year (e.g. from $100 to $120). The increase in value is often a combination of income (dividends and interest payments) as well as capital gains (changes in the selling price of stock or bonds). Yield or "current yield" refers to the estimated annual return from dividends and interest payments but does not include any capital gains. Is it possible to have a yield of 10% but a negative return for the year? Absolutely, if the value of the underlying stock or bond decreases in value more than the income generated, then a negative total return is possible. Junk bonds probably offer the best example of this type of situation (high yield, but high risk). - 31 - "Loads" and Expenses -------------------- When one buys or sells stocks or bonds, a fee or commission is typically paid to a stockbroker to handle the transaction. The equivalent in a mutual fund is what is known as the "load". Loads range from 0% ("no load fund") to about 8.5% and represents a percentage of offering price. Most funds require the load to be paid when you purchase shares ("front-end loaded"), though some charge the load when you redeem the shares, and still others have deferred charges which reduce over time. Obviously, your investment time frame has a lot to do with how you feel about the load. The longer you hold a fund, the less of an impact the load has. A load of 8.5% is not much of a factor if you hold the fund for 30 years, but very significant if you sell it after one year. Expenses represent the yearly costs to operate the mutual fund. This includes the costs of buying and selling stocks and bonds as well as management fees. In some cases, it also includes the cost of marketing / statements ("12b-1 plans"). Just as in loads, expenses vary considerably from fund to fund. A low expense fund might run in the .25 - .50% range (expressed as a percent of NAV), whereas a high expense fund could run well over 2.0%. As you might guess, the impact of loads and expenses can be considerable. Usually, the returns quoted for mutual funds do not include loads, but do include expenses. The question is, does the performance of the fund manager overcome the additional costs associated with high expenses and a load? In other words, if a fund consistently outperforms other funds, it may be worth paying a load or higher expenses. Different Fund Investment Objectives for Different Needs -------------------------------------------------------- Many early mutual funds held a mix of stocks and bonds, just as many indi- vidual investors do. However, as the demand for mutual funds mushroomed during the 1980s, mutual fund companies began to offer more specialized funds. These more specialized funds allow an investor to design a portfolio tailored exactly to their needs. Many mutual funds have strict guidelines as to the securities they may hold. For instance, one fund may only invest in "blue chip" stocks, another in treasury bonds with maturities over three years, and so on. In order to categorize the thousands of funds, a loose system of groupings has developed. Since most funds place themselves in a category, one must be somewhat careful about putting too much emphasis on these definitions. - 32 - However, they do serve to broadly define a fund's holdings. A short description of some of the groupings is listed below: Max. Capital Gains ∙ Invests primarily in smaller company stocks with high growth potential and pay little or no dividends. Risk is fairly high, may buy options and borrow funds. Growth ∙ Invests primarily in stock funds which offer good long term growth potential (capital gains) and dividend income secondarily. Equity Income ∙ Invests in stocks which offer high yields (high dividend payments as a percent of share price) Balanced ∙ Buys both stocks and bonds and usually has some guidelines as to the percent of the fund which may be invested in particular types of securities. Asset Allocation ∙ Aims to increase returns by moving money among stocks, bonds and cash. May also use gold, real estate and foreign investments. Income ∙ Invests in stocks and bonds such as to provide steady income flow. International Stock ∙ Invests primarily in foreign companies and / or US companies which derive a large portion of their revenues from exports or overseas holdings. An additional risk when investing in these funds is due to currency fluctuations. Sector ∙ Invests in a particular sector industry such as financial, technology, utilities, etc. Some funds are even more specialized and offer targeted investments in insurance or software companies only. Corporate Bond ∙ Invests primarily in corporate bonds. May have investing guidelines such as only bonds which have a BBB rating or better, or may be high-yield. Government Bond ∙ Invests in government issued or government agency bonds. Again, may strictly be short term treasuries or GNMAs, etc. Municipal Bond ∙ Invests in municipal bonds. Some funds may specialize in a particular state. International Bond ∙ Invests primarily in bonds held by foreign companies. Again, be sure to read the fund's prospectus and obtain a listing of a fund's holdings to better understand their investment strategy and guidelines. However, these categories do provide some direction. - 33 - The Value of Diversification ---------------------------- The old saying, "don't put all your eggs in one basket" probably applies to investing as well. Historically, though the stock market as a whole has outperformed bonds, money market instruments and savings, individual stocks have a great deal of variability, and therefore, risk. While some companies' stock prices have gone up 10 times, others have gone to zero. An example of the value of diversifying (investing in more than one company), might be if there were two local companies you were considering for investments. One was a home construction and repair company, the other a property insurance company. Both have similar sales and profits and are run by able managers. Consider the effect on both businesses of a severe recession or a hurricane hitting the area. Though both firms would be hurt by recession, the construction firm would likely suffer more, as few homes are built during economic downturns and people put off home repairs. The insurance company would likely continue to collect premiums and be in far better position than the construction company. On the other hand, if a hurricane hit the area, the construction company would likely be swamped with rebuilding and repairing homes while the insurance company would likely have a severe loss. Unless you enjoy the risk side of investing (and some people certainly do), your investment dollars would be far safer if you invested in both companies. Unfortunately, in order for the individual investor to be able to gain significant diversification buying individual stocks, one needs a good sum of money, probably over $20,000. This is due both to the number of different companies necessary for a good level of diversification (10 or more), as well as the impact of commissions on your return (best to buy in even lots of 100 shares). For example to buy 10 companies with a stock price of $20, you'd need $20,000 (20,000 = 10 x $20 x 100). However, a small investor can achieve diversification easily through mutual funds. Most funds are invested over 20 companies (many over 50) in a number of different industries. In addition, a number of funds hold investments other than stocks. Since a number of funds require an initial investment of under $1000 (with perhaps no load), the small investor can diversify with a low investment and low transactions cost (with a no load fund). ** Diversification with a low investment is one of the major benefits of owning mutual funds. - 34 - Fund Families ------------- Up to now, it probably seems as if you only need to choose the right fund and you're all set. It may be that "simple", but choosing the appropriate fund family is another issue you may want to consider. Often you'll want to invest in more than one fund to provide additional diversification (i.e. some in a stock fund and some in a bond fund), and you'll need to decide if you want to use the same group or not. A fund family is nothing more than a group of funds which are administered by the same company (by the way, not usually managed by the same investment advisor). What are some of the advantages investing in a particular family of funds? ∙ Transferring funds within a fund family is typically much faster and easier than from one fund to another which are in different families. Thus, if it is important to you to be able to make fairly quick trans- fers (for instance if you are investing in sector funds), this may be an advantage. ∙ In some fund families where there is a load, no load is charged if funds are being transferred within the same family. Again, if you move your funds from one type of investment to another (or think you may want to), this could be a significant savings. ∙ You may find that a particular family of funds offers better services or investment options than others. Also, you may find the familiarity of working with a particular group easier to manage. As was mentioned above, just because one fund in a family seems particularly well managed with great historical returns, it does not necessarily follow that all funds in that family will have better than average performance. Typically, different managers are in charge of different funds within a family, so it is important to analyze each fund separately. Just don't forget about some of the benefits of investing in the same family. - 35 - What You'll Find in a Fund's Prospectus --------------------------------------- The prospectus contains a wealth of information about a fund which you should always carefully read before investing your money. A prospectus is usually about 10-30 pages (of fairly small print) containing information about the fund. You can ask for one by calling the 800 number of the fund (by the way, this is fairly standard procedure, so they'll know exactly what you're asking for). In the prospectus, you'll find a summary of expenses, condensed financial information, investment objectives and policies including distributions and information about shareholder services. Several examples are shown below: Example of Summary of Expenses ----------------------------------------------------------------------------- Shareholder Transaction Expenses: Maximum sales charge on purchases (as % of offering price) 5.75% Maximum sales charge on reinvested dividends (as % of offering price) none Deferred sales charge (% of original purchase price) none Redemption fees (as percentage of amount redeemed) none Exchange fee none Annual Fund Operating Expenses (for the year ended July 31, 1991): Management fees 0.38% 12b-1 expenses 0.17% Other expenses (audit, legal, shareholder services) 0.18% Total fund operating expenses 0.73% Example: 1 year 3 years 5 years 10 years You would pay the following total expenses on a $1,000 investment, assuming 5% annual return and redemption at end of time period. $65 $79 $96 $143 ----------------------------------------------------------------------------- The 5.75% is the front end "load" you'd pay when you initially invested in the fund. This example fund has no load on reinvested dividends. Many load funds have no charge when you automatically reinvest dividend or capital gains distributions. This fund also has no deferred sales charge or redemption fee. There is also no exchange fee (load) among funds in this family. That is, if you transfer some portion of your holdings in this fund to another in the same family of funds, there is no charge. The total fund operating expenses for the most recent year are .73% of net assets. Thus for each $100 currently invested in the fund, 73¢ goes toward fund expenses. The detail of the breakdown of expenses is shown as well. An example of your costs (including loads and charges) is shown for 1-10 years. - 36 - Example of Statement Condensed Financial Information ----------------------------------------------------------------------------- 1991 1990 1989 1988 Investment income $ .95 $ .89 $ .98 $ .88 Expenses .09 .07 .08 .06 Net investment income .86 .82 .90 .82 Dividends from net invest. inc. (.89) (.87) (.88) (.80) Net realized and unrealized gain (loss) on investments .53 (.67) 1.68 (.68) Distributions from net realized gain on investments (.07) (.37) (.00) (.38) Net Increase (decrease) in NAV .43 (1.09) 1.70 (1.04) Net asset value: Beginning of year 12.11 13.20 11.50 12.54 End of year $ 12.54 $ 12.11 $ 13.20 $ 11.50 Ratio of expenses to average net assets .73% .67% .69% .55% Ratio of net investment income to average net assets 7.23% 7.36% 7.45% 7.14% Portfolio turnover 23.40% 18.90% 34.40% 42.80% Number of shares outstanding at end of year (000s) 220,977 174,200 96,355 80,464 ----------------------------------------------------------------------------- The investment income of $.95 is the amount of dividends and interest received by the fund on a per share basis. The (.89) is the dividends which were distributed to shareholders during the year. The net realized and unrealized gain (loss) on investments refers to the change in the value of the underlying securities throughout the year. Any distributions (.07 in 1991) are shown on the next line. The net increase in net asset value (.43) is the difference between the NAV at the end of the year and the NAV at the beginning of the year (12.54 - 12.11). It is also equal to net investment income - dividend distributions + net realized and unrealized gains - capital gains distri- butions (.86 - .89 + .53 - .07 = .43). The ratio of expenses to average net assets (.73%) is equal to expenses divided by average net assets. Ratio of net investment income to average net assets equals net investment income divided by the average net asset value during the year. Investment objectives and policies included in the prospectus will detail guidelines such as the investment grade of bonds the fund may acquire or - 37 - percentages in stocks, bonds or money market instruments. The timing of dividend and/or capital gains distributions is usually included in the prospectus as well as the services which are available to the shareholder. These might include exchange privileges, load discounts, phone numbers which are available for information and purchase guidelines. How to Read the Mutual Funds Section of the Newspaper ----------------------------------------------------- Mutual funds' closing NAV for the previous day can be found in many newspapers which have a business or financial section, usually following the closing stock prices. Some newspapers may only list the mutual funds in a weekend edition. If your paper doesn't have a listing, the Wall Street Journal, New York Times or Washington Post are available at some libraries. The listing in the paper is usually organized by fund family, with an abbreviated name for each fund within the group. For instance, the beginning of the Fidelity Investments family of funds might be shown in the paper as follows: Offer NAV NAV Price Change Fidelity Invest: AgTF r 11.97 NL -.05 A Mgr 13.32 NL -.06 AMgrGr 10.79 NL -.11 Balanc 12.73 NL -.06 BluCh 21.51 22.18 -.27 The first fund listed, Fidelity Aggressive Tax Free, has a current net asset value of 11.97, is a no load fund ("NL") and is down 5¢ from the previous day's close. Also notice that there is an "r" after the name. This is an abbreviation, which, in this paper means that a redemption charge ("back-load") may apply when sold. There are a number of different abbreviations which you should check for including: e or x- Ex-distribution A fund's value will decrease after a distribution to shareholders. This is usually a quarterly or annual dividend or capital gains distribution. p- 12b-1 plan The fund had a 12b-1 plan in place whereby marketing and administrative expenses are deducted from NAV. - 38 - The last fund listed, Fidelity Blue Chip Growth is a load fund. The offer price is more than the current NAV. This difference represents the load. Thus, when you purchase the shares of this load fund, you'd pay $22.18 and if you turned around and sold it the same day, you'd only receive $21.51, the actual value of a share. - 39 - --------------------------------------------- APPENDIX B: DESIGNING AN INVESTMENT STRATEGY --------------------------------------------- This section provides more detail on developing an investment strategy which makes sense for you. In addition, several investing techniques are introduced at the end of this appendix. Investment Horizon and Attitude Toward Risk ------------------------------------------- When you will need to use your savings should have a lot to do with how you invest your savings. Why is this? Shouldn't you always try to maximize your return? Remember that maximizing your return often means maximizing your short term risk. Though a small company growth fund might offer the highest potential return in the long run, if you're not investing in the long run, you may be in for a tough ride. A great example of this occurred in 1991-92. When the returns for 1991 came in, a number of funds were up over 50% (some over 80%!). Investors flocked to these funds. Unfortunately, many of the small, high growth stocks took a tumble in the beginning of 1992, and some funds lost 20-30% of their value. For the individuals who invested at the beginning of 1991, they were still way ahead. But for those who came in at the beginning of 1992, ouch... The moral of this story is not to avoid high growth stocks (recall 1991), nor is it to try to invest at the right time (you'll often miss). The two key points are: ∙ Understand the risk of your investment ∙ Consider your investment horizon in assessing your risk. In general, the shorter your investment horizon, the less risk you should take. A 35 year old should look at retirement investments differently from a 70 year old. A 35 year old should be more willing to take on short term risk for higher long term returns because he/she can ride out short-term fluctuations. However, a 70 year old should be somewhat more defensive about his or her principal. In addition, a 70 year old would probably want a fairly even stream of income. However, the 70 year old still should hold some stocks, just a lower percentage and probably of a more stable, dividend paying variety. The same would hold for someone saving for a child's college education. Early on (assuming you get started when your child is young), it makes sense to put a higher percentage into higher risk, higher return assets. Later, as the child nears college age, begin to move toward a more stable, low volatility - 40 - investment, so that you can properly estimate what you'll be able to afford and count on it being there. Both of the above scenarios assumes you are willing to take on some risk. If you really can't handle the ups and downs, then don't get into the market (or at least start slowly). Stick with stable investments like treasury bills. The key is to start saving for your future needs. Matching Your Investment Objectives with a Mutual Fund ------------------------------------------------------ Let's expand on the two basic considerations of choosing a mutual fund discussed above (time horizon, feeling toward risk) to include two others: Diversification of assets and fund performance. The first three factors impact your choice regarding the type of fund (stock, bond, international, etc.) whereas fund performance is a decision criterion among funds of the same type (i.e. which bond fund should I invest in?). Does it make sense to diversify among mutual funds? One might think that investing in a mutual fund by itself provides enough diversification. However, it really depends on the mutual fund. Some, such as balanced funds or income funds, provide protection against two types of risk: Company specific and market risk. This is because these types of funds invest in a number of different companies and different markets (stock, bond and money market instruments). Since many funds restrict their investment activity to a particular type of instrument such as bonds, these funds will expose you to their market risks. Bond funds are susceptible to rising interest rates (which will affect the price of all bonds). International funds are exposed to currency risk. Sector funds (auto, financial services, health care, etc.), are open to industry specific risks (e.g. a major hurricane would hurt many insurance stocks, rising fuel costs would hurt airlines). Examples of Market Risk ------------------------------------------------------------------------------ Stocks - Changes in fiscal policy / tax code, industry specific risks, interest rates Bonds - Changes in interest rates International - Currency fluctuation (the exchange rate for the dollar) Money Market Instruments - Falling interest rates (no risk to principal) ------------------------------------------------------------------------------ In addition, if you invest in funds which are under the same manager, you may not be getting as much diversification as if you invest in funds under several different managers. This is probably a less significant issue, but still - 41 - worth considering. This benefit needs to be weighed against the advantages of investing in funds of the same family. On the other hand, spreading your money around may cause headaches in record keeping, tax issues and the like. There's a lot to be said for keeping it simple which was one of the advantages of mutual funds in the first place. The table below outlines provides an overview of some of the major types of investment options: ------------------------------------------------------------------------------ Type of Type of Short Term Long Term Investment Earnings Risk to Principal Potential Money Market Interest None Low Instruments Short Term Interest Low Low Bonds (Interest rates) Long Term Interest Medium-High Med-High Bonds Capital Gains (Interest rates) Balanced / Interest, Dividends Low-Medium Medium Income Capital Gains (depends on holdings) Growth Mainly Cap Gains Medium-High High Sector Dividends or High (with some Low-High Capital Gains exceptions - Utilities) (depends on industry) ------------------------------------------------------------------------------ When it comes to investing in multiple mutual funds, use your common sense and understand your attitude toward risk. For instance, if you're just getting started and have a minimal amount to invest, consider a balanced or income fund which will provide a good deal of diversification but still offer long term potential. If you have more specific needs (or feelings about risk), then select the appropriate fund. If you have sufficient funds and don't mind the record keeping, you may want to try to select the best funds from several categories and decide for yourself what percentage to put in each fund. To see how you feel about risk and your potential investments, you might consider investing a hypothetical $1000 (or whatever amount you are considering) in several funds. Order the prospectus, carefully select the funds and then track them for a while, hopefully through several severe swings (both directions) in the market. If your stomach gets tight watching your hypothetical $1000 go up and down, perhaps you should consider a less risky investment! - 42 - How Should You Structure Your Investment Portfolio? --------------------------------------------------- Ultimately, this is your decision. You'll want to consider many factors in your decision: time horizon, attitude toward risk, diversification, historical performance. If you can afford it (or if you are willing to invest in a load fund offered by financial advisors), you may want to get some advice from an accountant or financial advisor. Perhaps some hypothetical examples will help you identify some alternatives which are sensible for you. Again, these are only hypothetical profiles and do not constitute any particular investment advice. ------------------------------------------------------------------------------ Time Risk $ to Recd Tax Fund % % % Horz Invst Keep Def'd Types Cash Bonds Stock Long Low Mid Hates Yes G/I, I+, B, GB, CB (1-3) 20-40 20-40 20-40 Short Low Little Hates No ST-GB, MM (1-2) 0-100 0-100 0 Mid Med Little Org. No B+, G/I, CB, GB (1-2) 10-30 20-50 30-60 Long High Lots Org. Yes All OK, G+ (6+) 0-10 10-40 50-80 Long Med Mid Org. No All OK, G/I+, (2-4) 10-30 20-50 30-60 Short High Little Hates No B+, TF+, I (1) 20-40 20-40 20-40 Mid Med Med Org No G/I, I, B, GB, MB (2-4) 15-25 30-40 30-40 Mid Low Lots Hates Yes I, B, GB+, MM (3-5) 30-50 30-50 10-20 Time horizon: Long = 20+ years, Mid = 5-15 years, short = less than 3 yrs Risk Profile: Low=Hates risk, High=High tolerance of risk Amount to Invest: Lots = > $50,000, Mid = $10-20,000, Little = <$3,000 Record Keeping: Hates=Can't deal with it, Organized=Can handle some Fund Types: G=Growth, G/I=Growth/Income, I=Income, Int'l=International, S=Specialty/Sector, B=Balanced, CB= Corp Bond, GB=Govt Bond MB=Municipal Bond, HYB=High Yield BondS, MM=Money Market ST=Short Term, LT=Long Term, TF=Tax Free, "+"=Best Bet A reasonable # of funds to hold is listed in parenthesis % Investments: Reasonable range for percent of portfolio invested in money market instruments, bonds and stocks. Remember that many funds have some % invested in cash and stock or bonds at any given time. ------------------------------------------------------------------------------ - 43 - When Should You Invest? ----------------------- Buy low, sell high. Well, sure, that's what we all aim for, but it's pretty hard to accomplish. (You can read Marty Zweig's book on market timing if you want to study the subject and learn some modelling techniques). However, for those of you who are starting a long term savings plan, there are some simple, disciplined investing techniques which work fairly well: dollar cost averaging and value cost averaging. Dollar cost averaging is nothing more than investing a given dollar amount (e.g. $100) each month on the same day. In other words, a disciplined savings plan. Since you invest the same amount of money each month, you will buy more shares when the market is low and less shares when the market is high. Dollar cost averaging also lowers your risk ("timing risk"), by spreading your investment over time. The technique works especially well in "choppy" markets and with growth stock funds which tend to fluctuate more. As an example, let's look at two investment alternatives: One where you invest $500 at the beginning of the year in one lump sum and the other where you invest $100 at the beginning of each month for five months. In all scenarios, the value at the end of the year is $12.00 / share (NAV). ------------------------------------------------------------------------------ Fund Fund Fund *************** Shares Bought *************** Price Price Price Lump $ Cost Lump $ Cost Lump $ Cost Choppy (Up) (Down) Choppy Choppy (Up) (Up) (Down) (Down) $10.00 $10.00 $10.00 50.00 10.00 50.00 10.00 50.00 10.00 $11.00 $10.50 $9.50 0.00 9.09 0.00 9.52 0.00 10.53 $10.00 $11.00 $9.00 0.00 10.00 0.00 9.09 0.00 11.11 $9.00 $11.50 $8.50 0.00 11.11 0.00 8.70 0.00 11.76 $10.00 $12.00 $8.00 0.00 10.00 0.00 8.33 0.00 12.50 Total Shares Owned 50.00 50.20 50.00 45.64 50.00 55.90 Amount Invested $500.00 500.00 500.00 500.00 500.00 500.00 Value of Holdings $500.00 502.00 600.00 547.68 400.00 447.20 Return (5 month) 0.0% 0.4% 20.0% 9.5% -20.0% -9.4% Value @Yr End $12/share $600.00 $602.40 $600.00 $547.68 $600.00 $670.80 Return 20.0% 20.5% 20.0% 9.5% 20.0% 34.2% Average Value Dollar Cost = $606.96 Return = (606.96 - 500) / 500 = 21.4% Average Value Lump Sum = $600.00 Return = (600.00 - 500) / 500 = 20.0% ------------------------------------------------------------------------------ Looking at the above example, you should note a few things. First, that dollar cost averaging lowers your risk. The value of your holdings at the end of five months has much greater volatility (400-600) with a lump sum investment than with dollar cost averaging (447-547). Second, if the market - 44 - rebounds to the same level by year end, you're likely to be better off with dollar cost averaging (average return is 1.4% higher). Again, the basic premise behind dollar cost averaging is that you'll buy more shares when the market is lower and less when it is higher. The other advantage is that most funds can arrange automatic withdrawal from your bank checking account. The disadvantages are that in an up market, you won't come out as well and that when you sell your shares, the tax record keeping is a bit more complicated. Value cost averaging is where you invest (or sell) the amount necessary to bring the value of your investment up to a given level. In the above example, you would say that you will have $100 invested at the beginning of the first month, $200 at the beginning of the 2nd month, $300 in the third, and so on. Again, a disciplined savings plan where you will buy more shares when the market is low and less shares when the market is high. Value cost averaging also lowers your risk ("timing risk"), by spreading your investment over time and, like dollar cost averaging, the technique works especially well in "choppy" markets and with growth stock funds which tend to fluctuate more. Let's look at the same two investment scenarios: One where you invest $500 at the beginning of the year in one lump sum and the other where you value cost average up to $500 by the fifth month. In all scenarios, the value at the end of the year is $12.00 / share (NAV). ------------------------------------------------------------------------------ Fund Fund Fund ***************** Shares Bought *************** Price Price Price Lump $ Cost Lump $ Cost Lump $ Cost Choppy (Up) (Down) Choppy Choppy (Up) (Up) (Down) (Down) $10.00 $10.00 $10.00 50.00 10.00 50.00 10.00 50.00 10.00 $11.00 $10.50 $9.50 0.00 8.18 0.00 9.05 0.00 11.05 $10.00 $11.00 $9.00 0.00 11.82 0.00 8.22 0.00 12.28 $9.00 $11.50 $8.50 0.00 14.44 0.00 7.51 0.00 13.73 $10.00 $12.00 $8.00 0.00 5.56 0.00 6.89 0.00 15.45 Total Shares Owned 50.00 50.00 50.00 41.66 50.00 62.50 Amount Invested $500.00 493.74 500.00 454.48 500.00 555.80 Value of Holdings $500.00 500.00 600.00 500.00 400.00 500.00 Return (5 month) 0.00% 1.01% 20.00% 10.00% -20.00% -10.00% Value @Yr End $12/sh $600.00 $600.00 $600.00 $499.92 $600.00 $750.00 Return 20.0% 21.5% 20.0% 10.0% 20.0% 34.9% Avg Value $ Cost = $616.64 Return = (616.64 - 501.34) / 501.34) = 23.0% Avg Value Lump Sum = $600.00 Return = (600.00 - 500.00) / 500.00) = 20.0% ------------------------------------------------------------------------------ Analyzing this more complicated example, there are a few things to point out. Again, value cost averaging lowers your risk. The returns at the end of five months has much greater volatility (-20% to 20%) with a lump sum investment than with value cost averaging (-10% to 10%). Second, if the market rebounds - 45 - to the same level by year end, you're likely to be better off with value cost averaging (average return is 3.0% higher). Once again, the premise behind value cost averaging is that you'll buy more shares when the market is lower and less when it is higher. The other advantage is that you know how much you'll have at the end of your investment period ($500 in month five). This makes it a good technique when you know how much you'll need at the end of your investment horizon. One major disadvantage for long term investors is that the amount you'll invest periodically can vary a great deal (especially if the market drops quickly). You may want to make sure that in the months where you can invest less (or actually sell off shares), that you are putting that money aside for when the market does drop. Another problem is that it is more complicated to implement (as you may be able to tell from the above example)! The bottom line on market timing is that it is better to invest and save even if your timing isn't good. For instance, over the long haul, even if you invest on the worst day of each year (when the market is at its high), you'll still be in good shape ten or twenty years down the road. Interestingly enough, your long term return is likely to be only a few percentage points lower than had you invested on the best day of the year. The moral: Start saving now and consider follow a disciplined approach that works for you. - 46 - Tax Issues ---------- As always, Uncle Sam gets his piece of the action and it is important to consider both the financial implications of taxes as well as the amount of tax record keeping required. Making initial investments in a tax deferred plan such as an IRA or SEP is fairly straight-forward. The IRA trustee (normally a fee is charged for this service) handles the account and annual notifications to the government. If your investment is not in a tax deferred plan or when changing trustees, tax issues become more of a chore. Again, this is not the place to go into a lot of detail about tax issues, but I will give you a few rules of thumb to go by. Rule #1: Always save your year end statement for the fund. This provides you with a record of all your transactions for the year. Rule #2: When you sell shares of a fund which is not in tax deferred plan, a taxable event has occurred. In addition, whenever the fund makes a dividend or capital gains distribution, a taxable event has occurred. Before February 1st, your fund will send you a noti- fication of the amount you received in dividends and capital gains. They will also send you a statement regarding your sales activity. However, you must take care of the record keeping as far as what shares you sold (there are many different approaches to consider). Rule #3: Different investments have different tax consequences. Earlier we discussed municipal bonds, treasury bills and bond and the like. Some investments are exempt from US and/or state and local taxes. Consider the implications of these investments, but don't forget that they typically have a lower return because of these tax breaks - so don't overdo it. Secondly, capital gains may be taxed differently than dividend income depending on your tax bracket. Rule #4: If you are not sure about the tax implications of your investments, talk to a qualified expert on the subject, not necessary your Uncle Joe (unless he's an expert, that is). Everyone seems to know some- thing about these issues, but they're not always right. - 47 - ----------------------------------- APPENDIX C: MS-DOS Reference Guide ----------------------------------- Menus: Select a menu item using the arrow keys to highlight an option and [Enter] to select an option. You may also use Alt-[highlighted (blue) letter] to select a menu item from a form or window. For instance, Alt-Q will quit the program. You may also use [F10] to activate the menus from within a form. File Projection Compare Windows Open Close Save Printer Setup... Print Quit Savings Projection Annuity Projection Fund Projection Individual Funds Fund Families Switch to Window Help Register About Function Keys: [F1] Opens a help window [F3] Print a report (shortcut for selecting print from the file menu) [F6] Move to the next window (for scrolling through windows) [F10] Access the menu Alt-[F3] Print current window (similar to print screen) - 48 - Moving Around in a Form / Window: Enter key Accept the current input value and stay in the same place Accept the highlighted control button (e.g. <Report>). Arrow keys Accept the current input value and move in direction of key. Move among fields in the same box. Tab / Shift-Tab Move to the next box or control button. Ctrl-1st letter Shortcut for selecting control buttons (e.g. Ctrl-C = Cancel) Control Buttons A control button on an input form allows you to choose an action to perform. To select a control button, press the enter key when the cursor is positioned on the appropriate button. You may also use the Ctrl key in combination with the highlighted letter (e.g. Ctrl-C = Cancel). Sample control buttons: <Report> <Sort> <Cancel> List Boxes: A list box contains a list of choices. Use the arrow keys and the [PgUp] / [PgDn] keys to move within the list box. Use the spacebar or [Enter] key to select an item. Check Boxes and Radio Buttons: Check boxes and radio buttons allow you to select an option (usually yes or no, true or false). Use the spacebar or [Enter] key to toggle (reverse) a checkbox or select a radio button. Sample check box [ ] Select this item by pressing spacebar Sample radio buttons ( ) Select this, ( ) that or ( ) the other Printer Options: Use the "Printer Setup" menu option to select an appropriate printer for your output. You may also output to a text (ASCII) file by selecting the Default (generic) printer, the file radio button and typing in the name of a file such as OUTPUT.TXT. To send the output to the printer, select the printer radio button rather than the file button. - 49 - ------------------------------------- APPENDIX D: Registration Information ------------------------------------- The Feeling's Mutual (TFM) is Interpretive Software's first attempt at using shareware as a method of distribution. All of our other programs are commercial applications. We recognize that shareware offers both the buyers and sellers of software a wonderful opportunity. Buyers may evaluate full working copies of a program and purchase the program at a reasonable price. Sellers are able to keep prices reasonable because of low marketing (distribution and advertising) costs. This arrangement only works when both parties make a reasonable commitment to each other. Buyers agree that if they like the program and decide to use it, they will pay the registration fee to the seller. If they find that the fee is too high for the value of the program, they understand that they may not use the program. Sellers agree to provide appropriate support and up- grades to registered users of the program for a reasonable charge or free. If you decide you'd like to use TFM (or have already begun to), you must register the program using either of the two following options: Option 1: Minimal registration fee of $40.00 (individuals only). This allows you to install the program on one computer, print out the manual yourself and receive mail, fax, phone or CompuServe technical support. It also allows you to receive future upgrades of the program and database for $25.00. Each year, the updated database will be available to registered users around February or March. Option 2: Full Registration fee of $60.00 (individuals or companies) If you choose option 2, we will send you a printed version of the manual, and your first yearly upgrade free of charge (additional upgrades will be $25.00 each). Technical assistance is available via mail, fax, phone or CompuServe. You may install the program on up to two machines at once. In addition, Interpretive Software pledges to reinvest all proceeds from registrations back into this product line for at least the next three years. Please make sure you indicate on your registration form which product improvement you'd like to see made available for the next upgrade. - 50 - Limited Warranty ---------------- As is the case with all writings about investments, we need to release ourselves from any liability. Although we believe all information contained in the software and manual to be correct, we do not guarantee its validity. We offer no investment advice of any kind and are not liable for any losses (or gains) you may incur. Please read the fund's prospectus carefully before investing. By downloading, copying or using this software, you release us from any liability. In no event will Interpretive Software, Inc. or the authors of this program and manual be liable for direct, indirect, special, incidental, or consequential damages resulting from any defect in the software or its documentation, even if advised of the possibility of such damages. In par- ticular, the authors shall have no liability for any programs or data stored in or used with the computer products, including the cost of recovering such programs or data. This software is sold, "as is," and you, the purchaser, are assuming the entire risk as to its quality and performance. The warranty and remedies set forth above are exclusive and in lieu of all other, oral or written, express or implied. You may copy and distribute the unregistered shareware version of TFM. The price charged for distributing unregistered versions should not exceed $7.50 which should cover all reasonable costs. Possible ideas for product upgrades 1. Expand the database to include more than the 25 largest fund families. 2. Expand the database to include more information about the funds. For instance, betas, largest holdings, etc. Please indicate preferences below: 3. Include an investing newsletter with articles written by users of the software. 4. Provide a method of downloading and viewing historical mutual fund NAV prices from CompuServe or GEnie. 5. Include a set of menu options which will allow you to track your mutual fund investments. 6. Other. Please describe your idea on a separate sheet of paper: - 51 - Registration Form Name: ________________________________________________________________ Company: ________________________________________________________________ Address: ________________________________________________________________ Phone: ___________________ Compuserve / Fax #: ______________________ Source of Program (i.e. Compuserve, Public Brands): ___________________ Suggested product upgrade (from previous page): ___________________ Software Version (circle one) MS-DOS Macintosh Diskette Size (circle one) 5 1/4" (MS-DOS only) 3 1/2" Registration Fee (circle one) Option 1: $40.00 Option 2: $60.00 Quantity Ordered (call for multicopy discounts > 5) _________ Subtotal (fee x quantity) $ _________ Sales Tax (Virginia customers only 4.5% of above total) $ _________ International orders please add $5.00 / copy if option 2: $ _________ Total Enclosed $ _________ Please mail your registration check made payable to Interpretive Software to: Interpretive Software, Inc. Attn: TFM Registration 1932 Arlington Blvd, Suites 107-109 Charlottesville, VA 22903 Technical Support is available through the above address or one of the following methods. Please note that we're not providing investment advice, only help getting the program to work properly! Phone: (804) 979-0245 Fax: (804) 979-2454 CompuServe ID: 70401, 2062